When Stephen Gardner became Peregrine Systems' chief executive, he embraced the company's ambitious growth strategy with an unrivaled zeal. But years of fraudulent sales deals made to meet Wall Street expectations eventually led to Gardner's ...

By Bruce V. BigelowSTAFF WRITER

August 26, 2007

NELVIN C. CEPEDA / Union-Tribune

Former Peregrine Systems Chairman and CEO Stephen P. Gardner faces a maximum sentence of 20 years in prison after pleading guilty in March.

Stephen Gardner's corporate charisma was in full bloom when he stepped onto the stage of a La Jolla hotel ballroom in spring 2000 amid gyrating spotlights and booming techno music.

At the time, many employees regarded Peregrine Systems' trim and confident chief executive as a software industry visionary. “He could enrapture an audience,” said Ben McCullum, a former Peregrine sales vice president.

But Gardner was a far different man June 6, when he took the witness stand in the first criminal fraud trial after Peregrine's 2002 accounting scandal. His waistline had ballooned. His hair was tousled, bordering on unkempt. And he often hung his head during lulls in the proceedings – as if his reserves of executive optimism had long drained away.

How had it all gone so horribly wrong?

For years after Peregrine imploded, Gardner had maintained his innocence – and his silence. Then, on March 13, he pleaded guilty. Within months, he was called to testify in a downtown federal courtroom against three former employees and the accountant who once headed the company's audit team.

Over 10 days in June, the disgraced CEO laid out for the first time how he had presided over an accounting scheme that lasted for years. He described how the sham business deals had mounted, quarter after quarter, until Peregrine became a runaway train of corporate corruption.

As Peregrine's highest-ranking executive, Gardner was supposed to be the prosecution's star witness. Instead, he may be the government's most problematic witness in what has become a problematic case.

GARDNER'S TESTIMONY

Over 10 days in June, former CEO Stephen Gardner testified that Peregrine regularlyinflated its quarterly financial results “by anywhere from 10 to 25 percent – sometimes more.” During questioning by defense lawyer Eugene Iredale, Gardner seemed to minimize the corrosive effects of his aggressive sales goals.

Q: So you could have prepared a business plan that said, “We are going to set a high butrealistic goal of $300 million for the first half,” and that would have been a number that could have been made without cheating or lying, or at least possibly made, right?

Gardner: Hypothetically, yes.

Q: But you chose to set this number, $347 million, which you knew, from the very first would be a strain to make, right?

Gardner: I felt it was achievable.

Q: Yes, I understand, and it was achievable. But it was only achievable by cheating and lying, right?

Gardner: That was not ... In hindsight, yes.

A federal judge declared a mistrial July 27 after the jury deadlocked – with most jurors voting to acquit the four defendants. Afterward, some jurors voiced misgivings about convicting Gardner's subordinates when he admitted he had misled them.

Tomorrow, federal prosecutors are scheduled to return to court to say whether they plan to retry the case. One factor they undoubtedly considered was just how effective their star witness was.

However they proceed, Gardner remains a character of Shakespearean proportions in one of San Diego's most notorious business frauds.

For a man who was haunted by heart attacks, he showed outright defiance of the intense pressures that came with driving a fast-growth technology company that was permeated with duplicity.

Gardner, who turns 54 on Tuesday, would not consent to an interview – his lawyer would not allow it. He faces a prison sentence of as much as 20 years, depending on his continued cooperation with the government, after pleading guilty to federal criminal charges of fraud, conspiracy and obstruction of justice.

Nevertheless, the portrait of Gardner that emerges from his own words at trial as well as in interviews with former employees is of a CEO who acted like a racehorse with blinders. Amid the irrational exuberance of the new millennium, he was so focused on meeting Peregrine's financial goals that he didn't care if the company broke a few rules.

“He was a very, very strong personality,” said Sam Melehy, who was a Peregrine vice president in charge of worldwide professional services. “He wanted certain things done and he was very adamant about it. He'd say, 'Go do that deal or don't come back.' ”

Greed was certainly a factor, Gardner testified at trial.

As Peregrine's CEO, and later as board chairman, he led a rarefied existence.

Peregrine

April 1997: Initial public stock offering for Peregrine Systems, a software developer founded in 1981.

May 1997: Stephen Gardner joins the company. He is named CEO in January 1998 and chairman in July 2000.

February 2001: Securities and Exchange Commission begins inquiry into Critical Path, a San Francisco software company, and so-called barter deals it used to boost revenue. Peregrine and Critical Path made a barter deal in late 2000.

June 2001: Testifying under oath, Gardner misleads SEC lawyers about the nature of Peregrine's barter deal with Critical Path.

September 2002: Peregrine files forChapter 11 bankruptcy protection. The company reorganizes and emerges from bankruptcy in August 2003.

October 2004: Gardner indictedon 46 criminal counts.

March 2007: Gardner pleads guilty to conspiracy, securities fraud, and obstruction of justice with a maximum sentence of 20 years in prison.

April 2007: The first criminal trial begins against three former Peregrine Systems employees and the accountant who once headed the company's team of outside auditors. The judge declared a mistrial on July 27, after the jury deadlocked against all four defendants.

He lived in a 5,000-square-foot home in Rancho Santa Fe and vacationed frequently near the Maine shore of Penobscot Bay. He owned power boats and liked to attend the annual Masters golf tournament in Augusta, Ga.

By the time Gardner was fired in 2002, Peregrine had paid him roughly $4 million in salary and bonuses, and he had sold his Peregrine shares for about $14 million.

“We are all in this for full risk and reward,” Gardner wrote in an e-mail in mid-2000 to Gary Lenz, an Arthur Andersen consultant he later recruited to serve as chief operating officer and his second-in-command. Gardner told Lenz and others he intended to build the company into a software goliath, with sales of at least $1 billion a year.

Gardner testified, however, that he exhausted his personal fortune two years ago while fighting the 46-count indictment that a federal grand jury handed up in late 2004. He moved his family to Belfast, Maine, years ago, and now helps his wife, Dorothy, run a local gift shop called The Yankee Trader.

In the five years that Gardner worked at Peregrine, he showed he had a genius for seeing where the software industry was headed – and how Peregrine fit in.

“He created an enormous amount of loyalty early on by creating a unifying marketing message for the first time in the company's history that really resonated with people,” said Claudia Hanson, a former Peregrine network engineer.

He saw how the software Peregrine provided to manage the computers deployed throughout a company could be expanded to manage things nobody had thought of: fleets of cars, real estate, even sign posts and streetlights.

In fulfilling his vision for Peregrine, Gardner embarked on a strategy to acquire other software companies as part of a broader goal to dramatically expand the company and its products. But his testimony suggested that he also was mindful of a history of heart attacks that coursed through his family.

In describing his childhood for the jury, Gardner said he was born in 1953 in Singapore, where his father worked for the Goodyear Tire and Rubber Co.

When he was 5 years old, Gardner said, his father died from a heart attack at age 39.

His mother moved to New Hampshire to live with his late father's family. She eventually was remarried, to a college professor who taught at Wayne State University in Detroit, where Gardner attended junior high school, and later at the University of Nevada Reno.

Although Gardner began college in Reno, he graduated from Princeton University and later from the Harvard Business School.

Before joining Peregrine in 1997, Gardner spent 15 years working for some of the biggest computer companies in the world, including Burroughs Corp., Groupe Bull of France and Data General.

Gardner came to San Diego to serve as the CEO of Alpharel Software, a company now known as Enterprise Informatics. While he was overseeing a major corporate acquisition for Alpharel, Gardner suffered a major heart attack at age 43.

While he was hospitalized, Alpharel had a shortfall in sales that cost him his job.

“After I recovered from the heart attack and rejoined the company,” he testified, “the board came to the decision that I had not been aggressive enough in pursuing sales . . . so they elected to have me leave the company.”

When Gardner joined Peregrine, he said the company's ambitious growth strategy had already been formulated by two board members, John Moores, the San Diego Padres owner who was Peregrine's biggest investor, and Charles Noel III.

Gardner already knew Noell, who is Moores' longtime financial adviser and closest business associate, as a Harvard Business School classmate.

“What they were explicit about,” Gardner testified, “was that they did not want to repeat what they perceived as having been mistakes made with an earlier company they were involved with, which was BMC,” the Houston software giant where Moores made his first fortune.

Gardner said Moores and Noell told him that at BMC “they weren't aggressive enough, in their opinion, on acquisitions. So they were looking for a twofold growth strategy: one that involved growing sales of the products that we had and developing new products . . . (and) secondly, (acquiring) companies that had products that were complementary to the market strategy we were developing.”

Yet people who worked closely with the Peregrine CEO said Gardner's strengths as a software visionary were undermined by his lack of interest in the operational details of a fast-growth technology company.

“He was long on the vision and very short on execution,” Melehy said.

Gardner drove the buyout strategy that resulted in 17 corporate acquisitions for Peregrine in less than four years. But Melehy said Gardner's buyout strategy was to run over a company and just “throw it in the back of the truck and keep driving.”

“He gave no thought to how you integrate the software products, the sales, marketing, the synergies, none of that,” Melehy said. “You have to implement a lot of policies and procedures, sales disciplines and processes. He just had zero skill or interest in doing any of that.”

Gardner conceded as much in a performance review he prepared for Peregrine's board of directors, which was submitted as evidence in the case.

In a self-assessment of his CEO skills, Gardner noted that his strengths included a solid understanding of technology. He was a “good visionary” and “can be inspiring to employees and customers.” In describing his weaknesses, though, Gardner wrote that he was “too willing to hear the good side of a story and disregard the warning signs” and that he was “slow to act to negative situations.”

The government has filed no criminal charges against Moores or Noell. Gardner testified that he had deceived Moores and other Peregrine directors about the bogus software sales deals used to boost Peregrine's revenue.

It also was clear that federal investigators scrutinized Moores' role at Peregrine, defense lawyers said, because the government provided reams of Moores-related documents during the pretrial discovery phase of the case.

Gardner never backed away from the ambitious goals that he set for Peregrine's financial performance, even though his demands to increase software sales every quarter only compounded his pressures. He worried, though, that his stress might lead to another heart attack.

“My wife was expressing a lot of concern, particularly around the end of quarters, that I just shouldn't be doing what I was doing,” Gardner testified.

But Gardner inexplicably forged ahead – even after David Farley, the chief financial officer who Gardner described as his best friend at the company, suffered a fatal heart attack on Oct. 9, 2000.

A few weeks earlier, Farley had exploded with fury and frustration after Peregrine had booked millions of dollars in fraudulent sales deals – for the second consecutive quarter – to meet Wall Street expectations.

Gardner, who said he was likewise infuriated, could have stopped it.

He said he considered lowering the numbers that Wall Street analysts used to forecast the company's future performance during summer 2000. He even contemplated formally restating the company's financial results.

But he never did.

One solution that Gardner devised was to recruit a chief operating officer who could assume his responsibilities for Peregrine's day-to-day operations.

“I had made it clear to Mr. Noell, Mr. Moores and the board, when I took the position of president and CEO, that I didn't consider myself an operating guy,” Gardner testified. “That wasn't my strength. By the time the company had become as big as it then was, I just didn't have the bandwidth or competence to manage the entire company by myself, both to deal with mergers and acquisitions, and the growth and strategy of the company, as well as to run the day-to-day operations.”

But after recruiting Lenz to serve as his second-in-command, Gardner testified that he became dissatisfied with Lenz's performance.

Nevertheless, over the next 20 months, Gardner continued to use fraudulent sales deals to boost the company's revenue, telling himself it was a “method of last resort” needed to close shortfalls.

But the fraud only got worse as the Peregrine CEO aggressively pushed the software developer to meet higher and higher sales goals. Although Peregrine had developed strong software products, Gardner testified, the company regularly inflated its quarterly financial results “by anywhere from 10 to 25 percent – sometimes more.”

Gardner acknowledged during the trial that he had lacked the resolve to face up to the bad deals and restate Peregrine's financial results – or even just rein in the company's forecasts.

“I wish I had the courage to do that, but we didn't,” Gardner testified. He held onto the hope that Peregrine might somehow book a deal so huge it would enable the company to clean up its books and provide badly needed cash.

Gardner conceded that his ego also welcomed the attention and accolades he won with Peregrine's soaring success. At the same time, he seemed to minimize and even defy the gravity of the company's mounting problems.

“I felt it was more important to meet the (Wall) Street expectations than to tell the truth,” he testified.

Gardner also acknowledged that he was unaware of the full extent of the wrongdoing at Peregrine. As the trial testimony showed, employees throughout the company seemed to have lost all sense of right and wrong.

Mid-level administrators routinely back-dated software sales contracts and whited-out fax transmission dates. An assistant controller tracked the uncollectible revenue from fraudulent sales deals and kept it secret from all but a few insiders. A sales executive testified that his career at Peregrine Systems was dead until he committed his first fraudulent deal, and then he was showered with bonuses and stock options.

Years later, the pang of Gardner's regret was sometimes palpable when he was asked why he had fought the federal criminal charges against him for nearly three years before he finally pleaded guilty. Gardner replied:

“The decision to plead guilty was probably the hardest decision I ever made in my life. When I left Peregrine, I knew I had done a lot of things that were wrong. I knew that I had made incredibly bad choices at the end of many quarters when I was faced with the choice of either telling the truth and admitting that we had failed – and taking the consequences – or perpetuating a lie and hoping that at some point in the future we could dig our way out of it. And quarter after quarter, I made the wrong choice.”

But admitting his wrongdoing was another matter, Gardner said.

“I couldn't face telling my wife or my children that with the 20 some years of work, in which I had tried to build a successful career, that I had allowed myself to make such terrible choices. . . . And so I decided to fight.

“I tried to use every resource at my disposal to find a way to portray what I had done in such a manner that either I would be found innocent, or at least that there would be some sort of mitigation,” Gardner said.

“I used those resources for as long as I could. . . . And after a while, I just could no longer deal with the pressure, the stress, of living the lie that I was dealing with. I had exhausted every resource that I had.

“I was facing the almost certainty that my guilt would be clear to a jury, and to the judge, and I chose to try to create a deal in which, at least, there would be some hope that at some time in my life, I could return to my family.”